Price Discrimination
Define, discuss, and account for the existence of price discrimination. Compare
and exemplify the first, second, and third degrees of such discrimination.

Overview Price discrimination is the practice of setting different pricing
formulas in different virtual markets, while still maintaining the same product
throughout. The prices are based upon the price elasticity of demand in each
given market. In more practical terms, that means that during "Ladies Night"
at M.P. OíReillyís, it costs more for me to have a beer than if I were a
female simply because this particular saloon sees fit to charge members of the
female species less as a means to draw more such females to the establishment on
such a night. Price discrimination is rampant in many areas of the commercial
and business world. Movie theatres, magazines, computer software companies, and
thousands of other entities have discounted prices for students, children, or
the elderly. One important note, though, is that price discrimination is only
present when the exact same product is sold to different people for different
prices. First class vs. coach in an airline (though sometimes just differing in
how many free drinks you can get) is not an example of price discrimination
because the two tickets, though comparable, are not identical. Price
discrimination is based upon the economic premise and practice of marginal
analysis. This conceptualization deals specifically with the differences in
revenue and costs as choices and/or decisions are made. A good example is
illustrated in the textbook by the Hartford Shoe Company model. The most
important portion of the model, however, is on page 201. Here, it is calculated
that if the company raises the prices of the shoes from $60 to $65, their
revenue and number of shoes sold will shrink...but their actual profit margin
will raise slightly due to that higher profit margin more than just offsetting
in the loss in sales. Profit maximization is achieved neither where the number
of products sold is the highest, nor where the price is the highest.

Profitability Price discrimination is only profitable if and when the given
target groupsí price elasticity of demand differs to the point where the
separate prices yield to profit maximization for each given group in question
(where marginal revenue equals marginal cost). Groups that are more sensitive to
prices, students and senior citizens for example, have a lower price elasticity
of demand and are thus the ones that are often charges the lower prices for the
identical goods or services. The key to price discrimination and utilizing it to
fully compliment other economic practices, ultimately achieving the total profit
maximization, is the ability to effectively and efficiently collect, analyze,
and act upon data gathered about the different groups. First of all, the groups
must be accurately identified and the differences between groups must be
discerned ahead of time. Children, genders, and senior citizens are easily
singled-out by appearance, while military personnel, college students, and other
groups must carry some sort of identification. Firms typically will advertise
the highest prices in publications, and then offer discounts to qualified
groups. The three basic conditions for price discrimination to be effective are
as follows: 1) Consumers can be divided into and identified as groups with
different elasticities of demand. 2) The firm can easily and accurately identify
each customer. 3) There is not a significant resale market for the good in
question. First Degree Price Discrimination The premise behind the practice of
first degree price discrimination is that the firm has enough accurate
information about the end consumer that products can be sold each time for the
maximum amount that the consumer is willing to pay. The two most prevalent
examples of first-degree price discrimination are called "price skimming"
and "all-or-none offers", both of which are described below. Skimming here
refers to the demand function, as firms take the top of the demand of a given
good to maximize profits on the per diem sale. This, of course, requires that
the firm know the actual demand for the good that it produces. Furthermore, the
firm must divide its customers into distinct, independent groups based upon
their respective demands for the good. The firm wants to first sell to the group
who will pay the highest price for the new product. It then reduces the cost
slightly and sells to another group with only slightly less demand for the good.

This process is replicated on numerous occasions until the marginal revenue dips
to equal marginal cost. While this example may seem similar to other examples of
price discrimination, it should be noted that the most significant difference
here is that there are a virtually limitless